The Real Estate Market… Is It At the Edge of Collapse?

This article was originally published for RC Peck’s Fearless Wealth Newsletter in February 2007.
Have you heard? We are in a housing slump. A housing bubble. A housing correction. Or a housing craze. Fill in the blank, and you will find someone who will agree with your point of view.

If you talk to a company that is selling condos in Arizona or Las Vegas, they will tell you we are not in a slump and that God is still not making any more land.

Regardless of your personal views or opinions I think we should look at a few charts that may give us a better picture of what’s happening, and what may happen in the near future. We’re going to look at the world of a builder of residential homes, and that of a mortgage lender.

THE NEW HOUSING MARKET

The first set of charts consists of D.R. Horton (DHI) prices. D.R. Horton is the largest builder of single family homes in the U.S. If there’s a problem with housing it will show up in their stock chart.

The chart below is a daily chart of D.R. Horton price activity. At first glance it doesn’t look good. In 2006 D.R. Horton fell 52%, and then stopped, for some reason, in July/August (more on this later).

From its low in 2006 it has rebounded by 37%. From this short-term view of the daily chart it looks like an undecided stock, or a stock about ready to fall again. D.R. Horton’s daily chart is telling us that a correction may have already started.

Housing Market #1

Whenever I have a daily chart that appears confusing, or does not provide clear information, I look to the weekly chart, like the weekly chart of D.R Horton shown below (a weekly chart can be instructive when the daily chart doesn’t seem to be providing enough clues).

When you look at D.R Horton at this time level, you may notice that the latest fall is within its normal correctional movement over the past seven years. In fact, the fall is arrested when it hits its long-term trending support.

Four times in the last eight years D.R. Horton (DHI) has had a 45% correction or greater. I don’t know where this chart is going next, but if we were to conclude anything it would be that the latest drop of 52% is within its normal range.

If the price breaks below this well established trend line then we may be in for a very hard correction in the housing market. And if the price does break below this trend line we will then know that housing peaked in mid 2005.

Housing Market #2

THE LENDING MARKET

The second part of the real estate market equation is the lending business. Most people borrow money to buy a home. So naturally we want to look at a large U.S. lender to see what their chart tells us. I’ve chosen the price chart of New Century Financial (NEW) because they are the second largest sub-prime lender in the U.S.

If a problem were to occur in the real estate market, it would first show up in the sub-prime lending market, so this where we will look first. Below is a daily price chart of New Century Financial (NEW), and it does not tell a pretty story.

If we are going into a real estate correction, the first signs of trouble will show up in the sub-prime lending market. Sub-prime borrowers are borrowers who have bad credit and usually lack the down payment (in other words, they can’t afford to buy the house in the first place).

Sub-prime borrowers will be the first to default on their loans. The chart below reflects the response to the announcement by New Century Financial’s CEO that the company’s defaults were greater than expected. This chart is very bad news for the housing market.

Housing Market #3

Below is a weekly chart of New Century Financial’s performance, and it appears as if the top of the sub-prime lending trend ended in Q4 2005. Since the top in December 2005, the sub-prime lending market has been getting worse.

Conclusion: the chart below shows that the sub-prime market correction started two years ago, and does not appear to be anywhere near finished.

Housing Market #4

What to do today …

If you already own an investment property, with a 30-year fixed loan, and the rent covers all of your expenses, then you are probably okay.
If you own an investment property, with an interest-only or a negative amortization loan, and your equity position in your home is negative, then you probably want to take a very hard look at whether or not you want to keep it. My suggestion is to cut your losses and get out!

If you want to start investing in real estate, then you will want to consider two things. (1) Reconsider and do not invest in real estate. Or (2) only buy an investment property that has cash flow with a 20% down payment, a 30 year fixed, fully amortized loan and an assumption that the property will be vacant 10% of the year. If your prospective rental property still can cash flow with the above assumptions then you will be able to make it through hard times.

One more thing, stay away from condos and townhomes. They will be the first to fall… and fall hard. People want single family detached homes so this is where you should be looking.

When you start looking, you will want to make sure you follow a proven method for finding the right areas in the U.S. for your investment. I have such a method, and it will keep your money working hard for you, without the anxiety or stress that you’ll get if you buy in the wrong area.

Just before you are ready you can visit my site and look under the “Services” section to learn more about the real estate course that is available.

Here’s to stress free cash flow properties.

Together we are making money,
RC’s Signature

1 Comment

  • jak

    August 15, 2012

    great to take a walk back in time and see what you had to say… good stuff RC!